Investing Basics: Risks of Alternative Investments

With stockmarkets taking a tumble and returns on savings remaining stubbornly low, some may be tempted by alternative investment opportunities they might not otherwise have considered – says Christian Leeming

Peer-to-peer lending has to an extent become a victim of its own success; such has been the demand that rates paid to lenders have been falling.

Reward based crowdfunding has caused some to question the monetary equivalent of some of the incentives on offer, particularly when a company hits the big time.

Oculus raised money to launch through rewards site, Kickstarter, offering a t-shirt and an early model of Rift, a Virtual Reality 3D headset to 10,000 individuals contributing $300 each. Oculus was subsequently sold to Facebook for $2bn but the backers had no equity; to be fair, Kickstarter is a rewards site so they weren’t short changed. However, had they have been able to take equity instead of the headset their return would have been 145x, the $300 contribution becoming $43,500!

‘subsequently sold to Facebook for $2bn but the backers had no equity’

That may explain the current activity in and around equity crowdfunding, as can the fact that there are now a very large number of platforms, many with launch budgets of their own, looking for deal flow and investors.
Whilst alternative investments may vary greatly from forestry to carbon credits, and from micro-brewery to gold bullion, they often carry similar risks; here are some of the key things to consider before making an alternative investment.

• Protection – most alternative investments will not be protected by the Financial Services Compensation Scheme (FSCS) which is the UK government scheme that protects bank deposits and certain investments up to the value of £75,000 per person per firm. If the company offering an alternative investment went bust, you’d be highly likely to lose most or all of your money.
• Liquidity – alternative investments may be illiquid, meaning they might be hard to sell quickly, or at an acceptable price, if you need the cash
• Independent research – there is less independent data regarding alternative investments than traditional ones; information available is likely to come from the investment provider who has an interest in presenting the opportunity in the best light
• Valuation – assets such as stamps or fine art do not trade on an exchange so there is no transparency in terms of pricing; expert valuations may be expensive and vary greatly.
• Fraud – sometimes investment opportunities may be little more than scams intended to part the unwary from their hard-earned; one of the less palatable consequences of pension reform has been the increase in the number of fraudsters attempting to part the elderly, or even the less so, from their pension pots.
• Unpredictability – alternative investments are likely to perform very differently in response to changes in economic circumstances and news events from the stock market or other investments; their performance may volatile and unpredictable – bringing the potential for both profit and loss.
• Cost – many alternative investments, such as fine wine, may have a high cost of entry with a minimum investment running to many thousands of pounds.

Are Alternative Investments Worth the Risk?

As with any investment, an alternative proposition, however bona fide, needs to be assessed in the context of your individual objectives and your appetite for risk.

However much you may rate the products of and the chances for your local ice cream company it would probably be unwise for you to invest in it through an equity crowdfunding platform if you are investing for income.

Early stage companies that seek funding in such a way tend to reinvest their profits back into the business rather than paying dividends to shareholders; investors are unlikely to see any return until the company is sold or is floated which may be years down the line. Or never.

Not one for the DIY investor looking for income in retirement.

Alternative investments may be where an interest or hobby such as philately or coin collecting meets investment; your knowledge of the subject matter may give you a valuable insight as an investor, but it would be prudent not to invest more money than you can afford to lose and to ensure that the bulk of your investments are in conventional assets.